(6) The on-the-run Treasury
curve is derived from on-the-run securities--which currently refer to the most recently issued Treasury notes (2-year, 3-year, 5-year, 7-year, and 10-year) and bonds (30-year)--as opposed to "off-the-run" securities that were issued before the most recent issue and are still outstanding.
(6) An on-the-run Treasury
security is the most recently issued security traded in the secondary market.
For a particular maturity, the on-the-run Treasury
security is the most recently issued security of that maturity.
An important way that dealers hedge such positions is by short selling an on-the-run Treasury
security with a similar maturity.
coupon securities frequently trade on special because coupon securities are often shorted for hedging or speculative purposes and because on-the-run securities are the most liquid.
Because of the remarkable liquidity of on-the-run Treasury
securities, some investors are willing to pay a premium for (that is, accept a lower yield for) those securities compared with similar, off-the-run securities.
The parameters are chosen so as to produce the Treasury term structure that is consistent with the prices at which the on-the-run Treasury
securities are trading on the day of estimation.(4)
(41) In early analysis, we also included a measure of the on-the-run Treasury
liquidity premium as a proxy for the flight-to-quality demand for Treasuries.
Figure 2 ECN Trading of On-the-Run Treasury
Securities, 2005:Q3 Market Share BrokerTec 61% eSpeed 39% SOURCE: Federal Reserve Bank of New York primary dealer data, eSpeed and ICAP 2005 financials, and author's estimates.
An off-the-run Treasury, even though it may be identical in terms of maturity and cash flow to an on-the-run Treasury
, is traded less frequently and therefore has lower market liquidity.
The government securities market spans a wide range of securities, from the extremely liquid, so-called on-the-run Treasury
securities, for which bid-asked spreads are razor-thin, to the more exotic and sometimes tailor-made hybrids and derivatives, for which a fair markup could be sizable.
See also Wall Street Journal (1999a), which describes changes in market practices that followed the appearance of a substantial liquidity premium in on-the-run Treasury
securities in the fall of 1998.